Consumer tidal wave on the way: China's middle class

Chen Juan has an unusual dream.

"My ideal picture," says the marketing director of Galanz, the largest microwave manufacturer in the world, "is of a Chinese peasant coming home after a day in the fields and cooking supper in a microwave."

Until recently, most people – including Chinese peasants – would have laughed at such a vision. Galanz built its brand, as did almost every other consumer goods company in China, by selling to the prosperous citizens of boomtowns on the east coast.

But now, say business analysts and economists, China is poised for a consumer-products revolution. Whereas the burgeoning elite in China's major industrial cities has spent the last several years cashing in on an export boom, an emerging middle class in the country's interior has only recently begun to see the fruits of economic liberalization. As government policies shift to encourage consumer spending, businessmen may finally realize their fantasies of an enormous, untapped consumer marketing frontier.

"We have to increase the number of people with a microwave oven from 200 million to 1.2 billion," says Ms. Chen, a gleam in her eye as she measures the prospect. "That's where our future lies."

And after many years of waiting the future has arrived, says Andrew Grant, head of McKinsey & Co., the consulting firm, in China.

"At the moment, China's consumer economy is about the size of Italy's, but in two years' time it is going to start adding an Italy every year," says Mr. Grant, noting that while the average Italian spends $11,511 on consumer goods each year to China's $543, the middle kingdom's enormous population makes up for the difference.

The emergence of a solid middle class, in cities and towns across the country, will transform the Chinese market, predicts Shaun Rein, founder of the Shanghai-based China Market Research Group.

"The second- and third-tier cities are where the real money is going to come from in the next 10 years," he predicts, referring to the provincial cities that do not yet enjoy the prominence of Beijing, Shanghai, or Shenzhen. "Everybody is starting to understand that that is where they need to be."

Chen has had her eye on such smaller cities for some time, but then Galanz always has had a nose for a trend. In 1992, its founder Qingde Liang sensed the first stirrings of an acquisitive middle class and got out of the eider export business to make home appliances instead.

With the big East Coast cities saturated, Chen is focusing on "country towns," cities with a million or so inhabitants that are now the company's fastest growing market, accounting for 80 percent of Galanz's microwave sales growth this year.

And that market is set to grow even larger as 300 million more Chinese move into urban areas over the next 10 years in a continuing mass population shift that will see 100 cities grow to a population of more than 3 million.

The bulk of these new urbanites will become members of the middle class, though their incomes – around $5,000 a year – will be modest to begin with. In China, however, $5,000 buys a lifestyle that would cost four times as much in America, and there will be a lot of families with that much money: Grant expects 700 million Chinese to have joined the "consumer class" by 2020 compared with less than 100 million today.

That adds up to a five-fold increase in urban consumer spending over the next 20 years to $2.3 trillion a year, according to a recent McKinsey report "From Made in China to Sold in China."

It was the promise of a market like this that lured many Western consumer product companies to China in the first place as the country opened up its economy to foreign investment, but disappointment has been rife.

Although Chinese economic output has been growing by around 10 percent a year, domestic consumption has grown much more slowly; in fact consumption's share of GDP has fallen from 47 percent to 37 percent over the last decade.

Now, however, the government is seeking to make consumer demand play a greater role in the country's economic development, liberalizing credit and taking other steps to encourage spending.

Young people are responding, and refusing to follow their parents' example of socking away 25 percent of their post-tax income – one of the highest savings rates in the world.

"These kids have had 30 years of unparalleled economic growth," Mr. Rein points out. "They ask why they should deny themselves something that they want."

Chinese companies have been quicker than their Western counterparts to spot the potential in China's hinterland, say business analysts, and readier to shave their prices to suit the pocketbooks of consumers who do not enjoy Beijing salaries.

Some big Western firms, such as P&G and Siemens "have reached deeper into the pyramid" of Chinese consumers, says Grant, selling cosmetics, toiletries, detergents, and electronic goods in small cities all over the country and going head to head with local producers.

More should follow them, advises Mc- Kinsey. "Instead of focusing mostly on urban affluent customers, who are just the tip of the consumer iceberg, more companies should adjust their strategies to include the emerging middle class as a core customer segment," the consulting firm recommends.

Instead, laments Rein, too many US executives are still focused on "the sexier cities that they have heard of" and enjoy visiting, such as Shanghai.

The problem with that, says Xiao Ming Chao, head of research at China Index, a data mining company, is that companies selling only to easy-to-reach affluent consumers in a handful of big cities are limiting themselves and risking their future.

"In China today you need to promote your brand image among the emerging middle class if you want to ensure future development," says Mr. Xiao. "That's how you guarantee your longevity."